## _spn1002

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### Executive Summary — Introduction and Context
- The global financial crisis has distressed the corporate sector through tightening of credit and weaker consumer demand.
- Expectation: a period of sustained corporate debt (and operational) restructuring to repair corporate balance sheets and realign firms to the post-crisis economy.
- Insolvency law is an important tool but is not sufficient to address the scale of debt distress following a financial crisis.
- Key policy question: how to calibrate government intervention, including focused insolvency law reform, to spur the debt restructuring process.
- The paper:
  - discusses the economic case for moderated government intervention in nonfinancial corporate debt restructuring;
  - draws on lessons from past crises to explain three broad approaches used in the aftermath of crises;
  - addresses challenges in designing and implementing a comprehensive debt restructuring strategy and draws together key principles.

### Executive Summary — Drivers of Corporate Distress
- Crisis effects heightening restructuring needs:
  - Debt deleveraging by financial institutions, corporates, and households.
  - Asset write-downs and counterparty risk driving liquidity pressures on banks and other financial institutions.
  - Financial distress in the banking sector constraining credit to corporates and households.
  - Economic downturn reducing corporate revenues and household incomes.
  - Reversals in capital flows constraining liquidity and exacerbating exchange rate pressures.
  - Exchange rate depreciation in countries with high FX‑denominated debt accelerating defaults; contractionary policies to maintain nominal exchange rates reducing debt servicing capacity.
  - Governments may face institutional limits (e.g., EU rules limiting state aid) and fiscal space constraints; large-scale intervention can lead to unsustainable public sector debt burdens.
- Crisis characteristics compounding restructuring needs:
  - Global dimensions: simultaneous worldwide effects, limited alternative financing, challenging policy coordination.
  - Severity: scale and pace of dislocation stretching institutional capacity and legal/policy tools.
  - Complexity: financial innovation and non-bank financial institutions adding layers to incentives and legal instruments relevant for restructuring.

### Role in IMF‑supported programs
- Corporate debt restructuring can be an important component of IMF-supported economic adjustment programs (examples cited: Iceland and Latvia).
- Private debt restructuring may be needed to revive medium term productivity and growth and to support balance of payments adjustment.
- High levels of private debt can negatively impact public debt sustainability via potential transfer of private debt to government balance sheets, generating contingent government liabilities.
- For IMF lending where private debt threatens public sustainability, debt restructuring may be required to restore medium term sustainability.

### Economic case for government intervention — benefits and drawbacks
- Rationale for intervention:
  - Systemic crises create financial dislocation from shifts in relative prices, disruptions in credit access, and contraction in output, affecting corporate balance sheets and bank capital.
  - Sustained weak demand creates excess capacity, inefficient employment of resources, and attrition in human and financial capital.
  - Government intervention (at least corrective macroeconomic policies) will be needed to address imbalances.
- Drawbacks of laissez‑faire:
  - Excess court cases may overwhelm institutional capacity.
  - Market failures (e.g., attrition problems in voluntary loan workouts) can delay restructuring; firms and creditors may attempt to ride out the crisis.
  - Risk of damage to the credit culture and proliferation of unproductive “zombie” companies.
- Downsides of government intervention:
  - Fiscal constraints: intervention involving government financing should be constrained by fiscal space and potential negative impact on public debt sustainability.
  - Second‑order costs: preserving non-viable firms and excess capacity can hinder necessary economic adjustment.
  - Moral hazard: bailouts can promote irresponsible risk-taking.
- Empirical lesson: some degree of government intervention has generally occurred after systemic crises to jump start and sustain corporate debt restructuring.
- Modalities depend on:
  - Dimensions of the debt problem.
  - Capacity of debtors and creditors to burden-share losses.
  - Legal tools and financial resources available to the government.
- Two illustrative cases:
  - Minimal intervention: facilitation, mediation, guidelines, institutional frameworks; fiscal support indirect (e.g., recapitalizing domestic banks meeting soundness requirements).
  - Deeper crisis: massive defaults require greater government involvement across legal, regulatory, and financial tools (subject to fiscal space) as part of an adjustment program.

### Approaches to corporate debt restructuring — three broad categories
1. Case by case, market‑based approach
   - Private debtors and creditors determine burden sharing on a case by case basis; government implements legal reforms to encourage timely market-driven restructuring.
   - Historical fiscal costs cited: immediate fiscal costs ranged from 6 percent of GDP (Poland) to 20 percent (Korea) and 44 percent (Thailand), financed mainly by the issuance of government bonds.
2. Across‑the‑board approach
   - Direct government involvement determining method and distribution of burden sharing across a pre-specified category of economic agents (examples: Chile, 1982; Mexico, 1983).
   - Characteristic features: direct fiscal support to corporates; legislatively mandated absorption of losses by creditors (advised against because of legal challenge risks and undermining credit culture).
   - Cautionary note: Argentina (2002) experienced asymmetric pesification and indexation measures leading to substantial direct and indirect bank losses—compensation to domestic banks totaling around Arg$56 billion—and significant litigation risks.
3. Intermediate approach
   - Case by case negotiations supported by government financial incentives, legal and regulatory reforms, and public entities to galvanize restructuring (examples: Mexico 1995, Indonesia 1998).
   - Typical elements: government-led mediation entities, direct corporate debt relief schemes, legal reforms with mixed results, sizeable fiscal costs (example: 20 percent for Mexico).

### Box 1 — Direct Government Subsidies: description, cases, assessment
- Description and rationale:
  - Direct financial support cushions wide scale debt distress but “effectively shifts the debt burden to government and taxpayers”; entails debt substitution rather than restructuring.
  - Elements: FX insurance and subsidy schemes; purchase of bad assets.
- Country examples:
  - Mexico (1983): foreign exchange cover to settle external arrears; refinancing and foreign exchange cover for private sector external debt; capital injection to nationalized banks; scheme within comprehensive rescheduling of public sector debt-servicing obligations.
  - Chile (1982): exchange of foreign currency debt-service payments at a preferential rate; limited purchases of non-performing loans; interest rate subsidies for household mortgages; financed mainly by issuing zero-coupon bonds.
  - Indonesia — INDRA: intended to eliminate exchange rate risk for debtors and foreign creditors meeting certain requirements; was used only once due to distrust of government involvement.
- Assessment:
  - Mixed experience: direct subsidies and across-the-board measures shift losses to the public sector and can be costly to public debt sustainability, possibly necessitating subsequent sovereign restructurings.
  - Across-the-board measures can disadvantage more efficient firms and dampen procompetitive forces.
  - Intermediate approach is generally preferred where feasible because it:
    - Makes better use of limited fiscal resources,
    - Avoids shifting the burden unsustainably to creditors,
    - Tends to be more effective than a purely case-by-case approach when distress is beyond court/market capacity,
    - Seeks to leverage private resources and contain dead weight losses implied by full across-the-board interventions.
  - However, the intermediate approach can face inefficiencies from gridlock when the number of default cases vastly exceeds institutional capacity.
- Policy implications:
  - Countries could adopt multiple approaches in parallel (e.g., across-the-board for categories of SMEs and intermediate for larger corporates).
  - Any strategy should be tailored to country circumstances: macroeconomic conditions, composition of debt, legal/institutional framework.
  - Reliance on direct subsidies should account for fiscal sustainability and the risk of moral hazard or competitive distortions.
  - Coordination with broader corporate debt restructuring strategy elements is essential.

### Legal reforms, out‑of‑court guidelines, and INSOL Principles
- Legal reforms and political constraints:
  - Many countries enacted reforms to legal frameworks relevant to corporate debt restructuring; laws may need re‑tailoring after a crisis.
  - Law reform uncertainty can stall restructuring; advance law reform in the crisis containment phase when feasibility of restructuring is already limited.
  - Changing credit enforcement rules in or after a crisis meets heightened opposition; high political capital required to initiate and sustain reforms.
- Government-supported guidelines for out‑of‑court restructurings:
  - London Approach: informal guidelines for voluntary multicreditor workouts to maximize going‑concern value and avoid formal insolvency.
  - Modified approaches (Indonesia, Korea, Malaysia, Thailand): centralized government roles, regulatory suasion, arbitration agreements, penalties for missed deadlines.
  - Large, diversified creditor groups complicate voluntary standstills; structured frameworks may be necessary in less developed legal systems or systemic crises.
- INSOL Statement of Principles for a Global Approach to Multi‑Creditor Workouts (2000) — preserved verbatim in source:
  - First principle: Where a debtor is found to be in financial difficulties, all relevant creditors should be prepared to cooperate... a “standstill period”...
  - Second principle: During the standstill period, all relevant creditors should agree to refrain from taking any steps to enforce their claims...
  - Third principle: During the standstill period, the debtor should not take any action that might adversely affect the prospective return...
  - Fourth principle: The interests of relevant creditors are best served by coordinating their response... representative coordination committees...
  - Fifth principle: During the standstill period, the debtor should provide... reasonable and timely access to all relevant information...
  - Sixth principle: Proposals... should reflect applicable law and the relative positions of relevant creditors...
  - Seventh principle: Information obtained... should be made available to all relevant creditors and should... be treated as confidential.
  - Eighth principle: If additional funding is provided during the standstill period... the repayment of such additional funding should... be accorded priority status...

### Voluntary payment standstills — rationale and exact design elements
- Rationale:
  - May be needed when a substantial proportion of the corporate sector is in distress and case-by-case negotiated or court-imposed standstills are impracticable.
  - Objective: provide corporates relief from liquidity pressures and avert failures due to frozen credit markets.
  - Government-facilitated voluntary standstills could operate in the crisis containment phase as a precursor to individually tailored standstills in the restructuring phase.
  - Payments subject to standstills would be deferred, not legally written off; ultimate fate addressed in the second-stage restructuring phase.
- Design elements (preserved from source):
  - Voluntary—Participation would be voluntary for each corporate debtor and its creditors. However, conditioning government financial support on the acceptance of the standstill by a qualified majority of relevant creditors would mitigate creditor free rider problems... (In contrast, forced participation... should be avoided...).
  - Scope—Participation ... should be open to a wide spectrum of the liquidity-constrained corporate sector and their creditors. While eligibility should be widely cast, qualification for the standstill in each case would be determined by creditor agreement. Payments subject to the standstill need to be sufficiently comprehensive to give meaningful liquidity relief... Exclusion of payments on trade financing and short term working capital may be acceptable...
  - Temporary—An indefinite standstill would be unacceptable to creditors... A time period of 6 months (with possibility of limited extension) may strike the right balance to allow sufficient time (i) to rehabilitate the banking sector and for macro policies to take hold; and (ii) to afford creditors the opportunity to advance assessment of the viability of the respective corporates by professional advisors. However... creditors would need to be able to agree to lift the standstill at any time.
  - Incentives—To the extent that fiscal space permits, some government financing of working capital for participating corporate borrowers would be conducive for debtors and creditors. Also, participation may present creditors with the near term advantage of improving the liquidity of their debt instruments, where tradable. Downside risks of non-participation include unpredictable and lengthy bankruptcy procedures resulting in further value destruction.
  - Focused legal and institutional reforms—During the standstill period, reform of the corporate insolvency laws should be focused on facilitating pre-packaged restructurings... specifically, to allow a qualified majority of creditors to be able to bind a dissenting minority to a restructuring agreement. In addition, governments should take the opportunity during the standstill period to advance guidelines for out-of-court restructurings.

### New financing, bank restructuring, and AMCs
- New financing considerations:
  - “Post-commencement financing” or “DIP financing” may require insolvency law reforms to accord legal priority (e.g., a “priming lien”).
  - Legal priority may be ineffectual where asset prices have deteriorated so far that there is no equity cushion in collateral.
  - Even well-designed insolvency laws may fail if credit freezes price new financing beyond firms’ means.
- Government financing in the crisis-containment phase:
  - Demand for government support is highest when firm viability is elusive.
  - Limited government financing should be guided by a circumscribed framework with objective criteria to avoid politicizing restructurings.
- SME differentiation:
  - SMEs may warrant differing treatment because their sheer number makes case-by-case restructuring inefficient; SMEs are often major employers of low-income individuals.
  - Possible separate frameworks: government-imposed standard restructuring terms; government guarantees; direct government financing into the SME sector where banks are unreliable.
  - Caveat: objective diagnosis remains important—indiscriminate credit injection to SMEs to address demand shortfalls should be resisted.
- Relationship of bank restructuring to corporate restructuring:
  - Banking sector rehabilitation is a first order priority to facilitate subsequent corporate restructuring.
  - Banks need sufficient capital to revive lending and undertake restructuring; drain on bank capital curtails lending and can prolong restructuring.
  - Bank recapitalization commonly used; capital shortfalls should be based on stress tests with conservative loan performance scenarios.
  - Subjecting public injections to some corporate debt restructuring could be considered, provided it does not delay bank restructuring.
  - Historical note: "All nine corporate debt restructuring studied by Stone included some government-sponsored bank recapitalization."
- Government measures to promote bank participation:
  - Support for specialized advisory and investment banking services.
  - Tax and other financial incentives to banks (including AMCs).
  - Use supervisory powers to require banks to disclose claims to negotiating parties.
  - Strict enforcement of NPL classification and regulatory guidelines.
  - Define clear timetables and supervisory penalties for non-compliance.
- Cross-border considerations:
  - Cross-border bank operations complicate government intervention; regulatory suasion over foreign banks can be limited.
  - Burden‑sharing costs across governments present major unresolved challenges.
  - Avoid strategies targeting foreign creditors to preserve access to international credit and investment.
- Asset Management Companies (AMCs):
  - AMCs can transfer bad assets, cause banks to recognize losses, and allow banks to focus on core business.
  - Operational issues: pricing of asset transfers is critical; market valuation on AMC books sets AMC recovery benchmarks.
  - Effectiveness conditions: more effective with many troubled corporations, relatively homogeneous loans, or when AMCs bring restructuring expertise.
  - Institutional forms: government-sponsored, private, or hybrid; choice depends on asset types, problem magnitude, market depth, debtor characteristics.
  - Government-sponsored AMC risks: political contention, distortion of property rights through special powers, difficulty transferring private borrower information.
  - Enhancing effectiveness: clear sunset clauses; operational independence and accountability.
- Private and hybrid AMCs:
  - Private AMCs with compensation aligned to maximizing recovered asset value tend to be more efficient.
  - Regulators should assess bank-established private AMCs with caution due to risk of banking balance sheet concealment.
  - Hybrid public‑private AMCs can leverage public and private resources and expertise (examples cited in source include the Industrial Revitalization Corporation of Japan and the International Finance Corporation’s Distressed Assets Recovery program).
- Use in the current crisis and country examples:
  - Reliance on AMCs has been limited so far.
  - Country examples described: Ireland (National Asset Management Agency), Germany (special purpose vehicles and “bad bank” public entities), Iceland (legislation enabling a government-sponsored AMC), United States (public Private Investment Program), Australia, Canada, Japan (asset management programs), UK Asset Protection Scheme (guarantee scheme targeting losses on risky assets).

### Key principles and sequencing for corporate debt restructuring strategies
- Sequencing and timing:
  - A comprehensive debt restructuring strategy should be envisioned early, but concerted implementation cannot be realistically sustained during the height of a crisis.
  - Authorities need early diagnosis of the debt problem and anticipation of legal bottlenecks since insolvency law and institutional changes take time.
  - Early and credible government commitment can reinforce positive expectations, but wide scale restructurings may take many years.
- Crisis containment phase priorities:
  - Rehabilitation of the financial sector: contain banking dislocation and recapitalize banks where shareholder recapitalization is not feasible.
  - Achieve macroeconomic stability: predictable asset prices, interest rates, and exchange rates to enable viability judgments.
  - Advance insolvency and related law reform where feasible, focusing on provisions that support out-of-court restructuring and priority for new financing.
  - In extreme cases, limited government financing to facilitate voluntary standstills on payments could be an interim measure.
- Restructuring phase priorities:
  - Intermediate, moderated government intervention complementing case-by-case negotiations tends to be relatively more effective and should be tailored to country circumstances (macroeconomic conditions, composition of debt, legal/institutional framework).
  - SMEs may require a different mix of tools; caution against financing non-viable SMEs.
  - Respect inter‑creditor equity and avoid targeting foreign creditors.
  - Government-sponsored out-of-court workout guidelines are conducive to maximizing restructuring for viable firms but may need structured government enhancements (e.g., regulatory suasion).
  - AMCs can spur restructuring but present governance and pricing challenges; consider particularly where banks lack capacity.
  - Non‑viable firms should be eased out via speedy liquidation and asset recycling.
  - Contain risks to public finances: leverage private capacity to burden-share and conserve limited government resources.

### Annex A — Selected factual points on out‑of‑court processes (selected factual points)
- Coordinating bodies and basic approaches (selected entries preserved from source):
  - Indonesia: Jakarta Initiative Task Force (JITF); forum for negotiations, followed by adoption of time-bound mediation procedures; onset Late 1997.
  - Korea: Corporate Restructuring Coordination Committee (CRCC); forum for negotiations; onset Late 1997.
  - Rep. of [Korea? as listed]: Corporate Debt Restructuring Committee (CDRC); forum for negotiations; onset Late 1997.
  - Malaysia: Corporate Debt Restructuring Advisory Committee (CDRAC); forum for facilitation, superseded by contractual approach (debtor-creditor agreements); onset Late 1997.
  - Turkey: Istanbul approach; forum for negotiations, superseded in the fall of 2001 by a legal approach (Law on Corporate Debt Restructuring); onset 1997.
  - Mexico: Unidad Coordinadora del Acuerdo Bancario Empresarial (UCABE); promotion of a voluntary debt workout program for the largest 40 corporations (only about 10 percent of all bank lending); onset Late 1994.
  - Brazil and Czech Republic entries noted as "None" for coordinating body or basic approach in the annex table.
- Resolution mechanisms varied: referral to government for bankruptcy petition; foreclosure and liquidation through court receivership; referral to AMCs with super-administrative powers; debtor-creditor agreements obliging creditors to petition court if less than 50 percent support a proposed workout; regular bankruptcy procedures.

*IMF staff discussion note: Executive Summary and excerpts from the provided content unit.*

### Executive Summary ......................................................................................................

### Executive Summary

### Introduction
- The global financial crisis has distressed the corporate sector through tightening of credit and weaker consumer demand.
- As countries move from crisis containment, a period of sustained corporate debt (and operational) restructuring can be expected to repair corporate balance sheets and realign firms to the post-crisis economy.
- Insolvency law is an important tool but is not sufficient to address the scale of debt distress following a financial crisis.
- Key policy question: how to calibrate government intervention, including focused insolvency law reform, to spur the debt restructuring process.
- The paper:
  - discusses the economic case for moderated government intervention in nonfinancial corporate debt restructuring;
  - draws on lessons from past crises to explain three broad approaches used in the aftermath of crises;
  - addresses challenges in designing and implementing a comprehensive debt restructuring strategy and draws together key principles.

### Context and drivers of corporate distress
- Crisis effects that heighten restructuring needs:
  - Debt deleveraging by financial institutions, corporates, and households.
  - Asset write-downs and counterparty risk driving liquidity pressures on banks and other financial institutions.
  - Financial distress in the banking sector constraining credit to corporates and households.
  - Economic downturn reducing corporate revenues and household incomes.
  - Reversals in capital flows constraining liquidity and exacerbating exchange rate pressures.
  - Exchange rate depreciation in countries with high FX-denominated debt accelerating defaults; contractionary policies to maintain nominal exchange rates reducing debt servicing capacity.
  - Governments may face institutional limits (e.g., EU rules limiting state aid) and fiscal space constraints on intervening, and large-scale intervention can lead to unsustainable public sector debt burdens.
- The recent crisis combines:
  - Global dimensions: simultaneous worldwide effects, limited alternative financing, challenging policy coordination.
  - Severity: scale and pace of dislocation stretching institutional capacity and legal/policy tools.
  - Complexity: financial innovation and non-bank financial institutions adding layers to incentives and legal instruments relevant for restructuring.

### Role of corporate debt restructuring in IMF-supported programs
- Corporate debt restructuring can be an important component of IMF-supported economic adjustment programs (examples cited: Iceland and Latvia).
- Private debt restructuring may be needed to revive medium term productivity and growth and to support balance of payments adjustment.
- High levels of private debt can negatively impact public debt sustainability via potential transfer of private debt to government balance sheets, generating contingent government liabilities that could inform a judgment that public debt is unsustainable.
- For IMF lending where private debt threatens public sustainability, debt restructuring may be required to restore medium term sustainability.

### Economic case for government intervention in corporate debt restructuring
- Systemic crises create financial dislocation from shifts in relative prices, disruptions in credit access, and likely contraction in output, affecting corporate balance sheets and bank capital.
- Sustained weak demand creates excess capacity, inefficient employment of resources, and attrition in human and financial capital.
- Government intervention (at least corrective macroeconomic policies) will be needed to address imbalances.
- Letting restructuring proceed without special intervention has drawbacks:
  - Excess court cases may overwhelm institutional capacity.
  - Market failures (e.g., attrition problems in voluntary loan workouts) can delay restructuring; firms and creditors may attempt to ride out the crisis awaiting recovery.
  - Risk of damage to the credit culture and proliferation of unproductive “zombie” companies tolerated by lax creditors, dragging on recovery.
- Downsides of government intervention:
  - Fiscal constraints: intervention involving government financing should be constrained by fiscal space and potential negative impact on public debt sustainability.
  - Second-order costs: preserving non-viable firms and excess capacity can hinder necessary economic adjustment.
  - Moral hazard: bailouts can promote irresponsible risk-taking.
- Empirical lesson: some degree of government intervention has generally occurred after systemic crises to jump start and sustain corporate debt restructuring.
- Level and modalities of intervention depend on:
  - Dimensions of the debt problem.
  - Capacity of debtors and creditors to burden-share losses.
  - Legal tools and financial resources available to the government.
- Two illustrative cases:
  - Minimal intervention: when corporate defaults are limited, government may facilitate mediation, set guidelines, or establish institutional frameworks to support negotiations and enforce resolutions.
  - Deeper crisis: massive defaults likely require greater government involvement across legal, regulatory, and financial tools (subject to fiscal space) to support restructuring as part of an economic adjustment program.

### Approaches to corporate debt restructuring
- Key objectives following a financial crisis:
  - Facilitate exit of nonviable firms (firms without a reasonable prospect of achieving sustainable profitability).
  - Enable timely restructuring of debt and access to sufficient financing to sustain viable firms.
- Debt restructuring instruments and complementary measures:
  - Debt reschedulings, interest rate reductions, debt-for-equity swaps, debt forgiveness.
  - Operational restructuring (closures, reorganization of productive capacity) often necessary to secure longer term viability.
- Distinction between crisis containment phase and debt restructuring phase:
  - During the height of a crisis, judgments on individual firm viability are difficult; measures tend to be marginal (extensions, waivers).
  - Crisis containment focus: establish a reasonably predictable macro path, restore the banking system, and provide a platform for substantive debt restructuring.
  - Debt restructuring phase: more substantive restructuring measures become feasible and effective.
- Three broad categories of approaches, distinguished by degree of government involvement:
  1. Case by case, market-based approach
     - Private debtors and creditors determine burden sharing on a case by case basis, relying on market solutions (examples noted: Hungary and Poland in the 1990s; Korea, Malaysia, and Thailand in the late 1990s).
     - Government role: implement legal reforms to encourage timely market-driven restructuring; fiscal support, if any, is indirect (e.g., recapitalizing domestic banks meeting soundness requirements).
     - Historical fiscal costs (cases cited): immediate fiscal costs ranged from 6 percent of GDP (Poland) to 20 percent (Korea) and 44 percent (Thailand), financed mainly by the issuance of government bonds.
  2. Across-the-board approach
     - Direct government involvement determining method and distribution of burden sharing across a pre-specified category of economic agents (examples noted: Chile, 1982; Mexico, 1983).
     - Two characteristic features:
       - Direct fiscal support to corporates (e.g., predetermined support amounts, tax/fiscal incentives for firms that engage in restructuring).
       - Legislatively mandated absorption of losses by creditors (advised against because of legal challenge risks and undermining credit culture).
     - Cautionary note from Argentina (2002): asymmetric pesification and indexation measures led to substantial direct and indirect bank losses (compensation to domestic banks totaling around Arg$56 billion), loss of depositor and borrower confidence, legal challenges, and significant litigation risks—underscoring aversion to forced restructuring techniques even in extreme crises.
  3. Intermediate approach
     - Relies on case by case negotiations, supported by government financial incentives, bolstered by legal and regulatory reforms, and establishment of public entities to galvanize restructuring (examples noted: Mexico 1995, Indonesia 1998).
     - Common characteristics in cited cases: high levels of both domestic and foreign currency debt; government involvement aimed mainly at foreign debt; creation of government-led mediation entities and direct corporate debt relief schemes; legal reforms pursued with mixed results; sizeable fiscal costs (examples include 20 percent for Mexico).

### Design and implementation considerations (high-level)
- Recognize the timing and sequencing between crisis containment and debt restructuring phases.
- Use legal and institutional reforms to strengthen insolvency procedures, creditor rights, and collective creditor processes to facilitate market-based restructuring where feasible.
- Consider targeted government interventions where market failures, large scale distress, or systemic interactions impede timely restructuring, subject to fiscal space constraints and potential moral hazard concerns.
- Ensure interventions are calibrated to:
  - Facilitate exit of nonviable firms.
  - Sustain viable firms through access to financing and operational restructuring.
  - Preserve and restore the credit culture and long-term financial sector functioning.

*IMF staff discussion note: Executive Summary (from the provided content).*

### Box 1. Direct Government Subsidies

### Box 1. Direct Government Subsidies

### Description and rationale
- Governments have resorted to direct financial support to distressed sectors to cushion the effects of wide scale debt distress.
- Such government action "effectively shifts the debt burden to government and taxpayers"; i.e., it entails debt substitution, rather than restructuring.
- Elements of the approach include direct government financial support through FX insurance and subsidy schemes and purchase of bad assets.

### Country examples and implementation details
- Mexico (1983):
  - Provided foreign exchange cover to help the corporate sector settle external arrears to foreign suppliers.
  - Provided refinancing and foreign exchange cover for private sector external debt.
  - Made a capital injection to nationalized banks.
  - The scheme took place within a comprehensive rescheduling of public sector debt-servicing obligations that provided Mexico with significant cash flow relief.
- Chile (1982):
  - The government and the central bank provided direct subsidies to corporations and households and to some solvent banks through:
    - Exchange of foreign currency debt-service payments at a preferential rate,
    - Limited purchases of non-performing loans from banks,
    - Interest rate subsidies for household mortgages.
  - The Chilean government financed these transactions mainly by issuing zero-coupon bonds.
- Indonesia — INDRA (Indonesia Debt Restructuring Agency):
  - Designed to enable debtors and foreign creditors who reached debt restructuring agreements that met certain requirements to eliminate exchange rate risk on future debt service payments.
  - The scheme was not successful—it was used only once—principally because of distrust of government involvement.

### Assessment of outcomes and trade-offs
- Experience with such government action has been mixed.
- Direct subsidies and across-the-board measures shift losses to the public sector and can prove costly to public debt sustainability, contributing to the need for subsequent sovereign debt restructurings to restore public sector balance sheets.
- Across-the-board measures, without distinction based on firm viability, can disadvantage more efficient firms and dampen procompetitive forces in the economy.
- The "intermediate approach" is generally preferred where feasible because it:
  - Makes better use of limited fiscal resources,
  - Avoids shifting the burden unsustainably to creditors,
  - Tends to be more effective than a case-by-case approach when debt distress is beyond court/market capacity,
  - Seeks to leverage private resources and contain dead weight losses implied by full across-the-board interventions.
- However, the intermediate approach must be weighed against potential inefficiencies from gridlock when the number of debt default cases vastly exceeds institutional capacity.

### Policy implications and design considerations
- Countries could adopt multiple approaches in parallel (for example, across-the-board for categories of SMEs and intermediate for larger corporates) to reflect differences in claim size and institutional capacity.
- Any strategy should be tailored to country circumstances, including macroeconomic conditions, composition of debt, and legal/institutional framework.
- Reliance on direct subsidies should account for fiscal sustainability and the risk of creating moral hazard or distorting competitive dynamics.
- Coordination with broader corporate debt restructuring strategy elements is essential (see subsequent discussion in the source on intermediate approaches, policy coordination, and legal/institutional reform).

*Source: Box 1. Direct Government Subsidies (excerpt).*

### 27. Many countries have enacted reforms to their legal frameworks relevant to corporate

### _spn1002 - 27. Many countries have enacted reforms to their legal frameworks relevant to corporate

### Legal reforms and political constraints
- Paragraphs 27–28 summarize that many countries have enacted reforms to legal frameworks relevant to corporate debt restructuring, but:
  - Such laws may need to be re-tailored as a result of changes to economic conditions resulting from a crisis.
  - Uncertainty from law reform can stall debt restructuring while stakeholders await outcomes, but this can be mitigated by advancing law reform in the crisis containment phase when feasibility of debt restructuring is already limited.
  - Any attempt to change credit enforcement rules or practices in the middle or aftermath of a crisis is likely to meet heightened opposition as potential winners and losers become apparent.
  - High levels of political capital are required for governments to initiate and sustain even limited legal and institutional reforms needed to optimize corporate debt restructuring.

### Guidelines for out-of-court restructurings
- Paragraphs 29–33 outline the role of government involvement and international experience:
  - Parallel to legal reform, government-supported guidelines for out-of-court restructurings facilitate wide scale debt restructurings.
  - The London Approach (Bank of England initiative) provided informal guidelines for voluntary multicreditor workouts to maximize going-concern value and avoid formal insolvency where possible.
  - Several countries (Indonesia, Korea, Malaysia, Thailand) modified the London Approach by enhancing centralized government roles and adding structured frameworks:
    - (i) regulatory suasion to require banks to sign on to workout principles (e.g., as quid pro quo to government recapitalization);
    - (ii) agreements to arbitrate disputes to avoid protracted formal judicial processes;
    - (iii) penalties for failure to meet deadlines under workout principles.
  - Where creditor groups are large, diversified beyond banks, and include domestic and international interests, coordination problems make unanimous voluntary standstills and the London Approach harder to operate; where one or two creditors exist, formalities like creditor committees may be unduly cumbersome.
  - In less developed legal and institutional frameworks or systemic crises with many restructuring cases relative to institutional capacity, enhancements to workout principles through a more structured framework have been necessary.

### INSOL Statement of Principles for a Global Approach to Multi-Creditor Workouts (as published in 2000)
- The INSOL Principles build on the London Approach. The principles are preserved verbatim:
  - First principle: Where a debtor is found to be in financial difficulties, all relevant creditors should be prepared to cooperate with each other to give sufficient (though limited) time (a “standstill period”) to the debtor for information about the debtor to be obtained and evaluated, and for proposals for resolving the debtor’s financial difficulties to be formulated and assessed, unless such a course is inappropriate in a particular case.
  - Second principle: During the standstill period, all relevant creditors should agree to refrain from taking any steps to enforce their claims against or (otherwise than by disposal of their debt to a third party) to reduce their exposure to the debtor, but are entitled to expect that during the standstill period their position relative to other creditors will not be prejudiced.
  - Third principle: During the standstill period, the debtor should not take any action that might adversely affect the prospective return to relevant creditors (either collectively or individually) as compared with the position at the standstill commencement date.
  - Fourth principle: The interests of relevant creditors are best served by coordinating their response to a debtor in financial difficulty. Such coordination will be facilitated by the selection of one or more representative coordination committees and by the appointment of professional advisers to advise and assist such committees and, where appropriate, the relevant creditors participating in the process as a whole.
  - Fifth principle: During the standstill period, the debtor should provide, and allow relevant creditors and/or their professional advisors reasonable and timely access to all relevant information relating to its assets, liabilities, business and prospects, in order to enable proper evaluation to be made of its financial position and any proposals to be made to relevant creditors.
  - Sixth principle: Proposals for resolving the financial difficulties of the debtor and, so far as practicable, arrangements between relevant creditors relating to any standstill, should reflect applicable law and the relative positions of relevant creditors at the standstill commencement date.
  - Seventh principle: Information obtained for the purposes of the process concerning the assets, liabilities and business of the debtor and any proposals for resolving its difficulties should be made available to all relevant creditors and should, unless already publicly available, be treated as confidential.
  - Eighth principle: If additional funding is provided during the standstill period or under any rescue or restructuring proposals, the repayment of such additional funding should, so far as practicable, be accorded priority status as compared to other indebtedness or claims of relevant creditors.

### Voluntary payment standstills — rationale and design considerations
- Rationale (paragraphs 34–37):
  - Catalyzing voluntary payment standstills may be needed when a substantial proportion of the corporate sector is in distress and case-by-case negotiated or court-imposed standstills are impracticable.
  - Objective: provide corporates relief from liquidity pressures and avert firms failing during the crisis due to freezing of credit markets.
  - Government-facilitated voluntary standstills could operate in the crisis containment phase as a precursor to individually tailored standstills or debtor-specific court-imposed standstills in the debt restructuring phase.
  - Payments subject to such voluntary standstills would be deferred, not legally written off; ultimate firm fate addressed in the second-stage debt restructuring phase.
  - Some firms may emerge as going concerns with liquidity preserved; others will require subsequent debt and organizational restructuring; others may require liquidation under bankruptcy law.

- Design elements to consider (paragraph 38), preserved exactly where numeric or specific terms appear:
  - Voluntary—Participation would be voluntary for each corporate debtor and its creditors. However, conditioning government financial support on the acceptance of the standstill by a qualified majority of relevant creditors would mitigate creditor free rider problems, by reducing the opportunity of holdouts to benefit from the forbearance of other creditors. (In contrast, forced participation through, e.g., the government imposition of payment moratoria should be avoided to the extent possible—such measures would raise legal objections and negative risk of contagion to other countries.
  - Scope—Participation in the government-facilitated voluntary standstills should be open to a wide spectrum of the liquidity-constrained corporate sector and their creditors. While eligibility should be widely cast, qualification for the standstill in each case would be determined by creditor agreement. Payments subject to the standstill need to be sufficiently comprehensive to give meaningful liquidity relief to the corporate sector. Exclusion of payments on trade financing and short term working capital may be acceptable to other creditors, in the interests of preserving the core operational capacity of the debtor firm.
  - Temporary—An indefinite standstill would be unacceptable to creditors and would risk deferring the second-phase debt restructuring that would need to be conducted as soon as is feasible. A time period of 6 months (with possibility of limited extension) may strike the right balance to allow sufficient time (i) to rehabilitate the banking sector and for macro policies to take hold; and (ii) to afford creditors the opportunity to advance assessment of the viability of the respective corporates by professional advisors. However, in order to provide some degree of discipline on debtor behavior against dissipating assets during the standstill period, creditors would need to be able to agree to lift the standstill at any time.
  - Incentives—To the extent that fiscal space permits, some government financing of working capital for participating corporate borrowers would be conducive for debtors and creditors. Also, participation may present creditors with the near term advantage of improving the liquidity of their debt instruments, where tradable. Downside risks of non-participation include unpredictable and lengthy bankruptcy procedures resulting in further value destruction (which might otherwise be avoided).
  - Focused legal and institutional reforms—Positive expectations of an orderly exit would enhance effectiveness of the standstills. Accordingly, during the standstill period, reform of the corporate insolvency laws should be focused on facilitating pre-packaged restructurings that could emerge after the standstill period; specifically, to allow a qualified majority of creditors to be able to bind a dissenting minority to a restructuring agreement. In addition, governments should take the opportunity during the standstill period to advance guidelines for out-of-court restructurings.

### Other government involvement in new financing
- Paragraphs 39–40 identify legal and financial constraints and potential reforms:
  - New financing is critical to maintain going-concern value while firms are rehabilitated; legal and financial considerations affect availability.
  - New financing is known as “post-commencement financing” when provided after commencement of insolvency proceedings and as “DIP financing” in the U.S. Chapter XI context.
  - One government intervention is reforming insolvency law to induce new financing by maximizing alternatives to accord such financing legal priority ahead of pre-existing debts (e.g., a “priming lien”).
  - Legal reforms to provide new financing with a “priming lien” may be ineffectual where asset prices have deteriorated so far that there is no equity cushion available in the collateral.
  - Even well-designed insolvency laws catalyzing new financing may fail if a crisis-related freeze in credit markets prices new financing beyond the means of firms.

*Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/spn/2010/_spn1002.pdf*

### 41. Should governments instead substitute for private credit markets and provide new

### 41. Should governments instead substitute for private credit markets and provide new

### Government financing in the crisis-containment phase
- Demand for government financial support of individual firms may be highest in the crisis containment phase where determination of individual firm viability is elusive.
- Limited government financing to facilitate standstills should be guided by a circumscribed framework with objective criteria; absent such criteria, ad hoc selective financing risks politicizing eventual debt restructurings and adding to market uncertainty.
- The rationale for government financing in this context is distinct from market-based new financing and, given its unpredictable contours, should be approached with caution.

### Differing intervention for SMEs
- SMEs may warrant differing treatment from other firms in a debt restructuring strategy because:
  - The sheer number of SMEs makes case-by-case restructuring by banking and court systems unlikely to be efficient.
  - SMEs are often in aggregate substantial employers of low-income individuals; failure of the SME sector may have a severe impact on low-income families with attendant social consequences.
- Possible separate frameworks for SME debt resolution include:
  - Government-imposed standard restructuring terms (e.g., specified grace periods for repayment, schedules for interest rate reductions).
  - Government guarantees to facilitate new financing by banks under defined circumstances.
  - Government financing directly into the SME sector where banks are unreliable or inefficient agents for channeling financing.
- Important caveat: objective diagnosis of the underlying problem remains important—indiscriminate government injection of credit to the SME sector to address demand shortfalls should be resisted.

### Relationship of bank restructuring to corporate debt restructuring
- Rehabilitation of the banking sector remains a key priority to move beyond crisis containment and to facilitate subsequent corporate debt restructuring.
- Banks must first support their own viability and establish loss absorption capacity; drain on bank capital from a crisis can curtail lending to both viable and non-viable firms, exacerbating the crisis.
- Weaknesses in the banking sector can prolong corporate debt restructuring; the weaker the banks, the less likely corporations will negotiate restructurings proactively.
- Banks prefer market-based debt restructuring to avoid costly court-based bankruptcy procedures, but in systemic crises banks’ incentives alone are typically insufficient due to coordination failures and externalities.
- Government intervention is commonly required to secure resources and institutional arrangements for effective negotiations.

### Bank recapitalization and conditionality
- Bank recapitalization, involving some use of public funds, has commonly been used to restore depleted capital and enable banks to take longer-term rational decisions on corporate debt restructuring.
- Capital shortfalls should be based on stress tests, including conservative scenarios on loan performance.
- Subjecting injections of public funds to some degree of corporate debt restructuring could be considered, provided it does not delay bank restructuring.
- Historical note: "All nine corporate debt restructuring studied by Stone included some government-sponsored bank recapitalization."

### Government measures to promote bank participation in corporate debt restructuring
- Government support for setting up specialized advisory and investment banking services to facilitate negotiations between banks and corporations and minimize coordination problems.
- Offering tax and other financial incentives to banks (including to AMCs) to expedite out-of-court debt restructuring.
- Using supervisory powers to require banks to disclose claims to relevant negotiating parties to avoid delays from lack of transparency.
- Ensuring strict enforcement of existing NPL classification and other regulatory guidelines to strengthen banks’ incentives to participate in debt restructuring.
- Defining a clear and concise timetable for stages of the debt workout process; supervisory penalties for non-compliance could be imposed to achieve maximum participation and minimum disruption.

### Cross-border considerations
- Cross-border dimensions of bank operations may complicate government intervention; regulatory suasion over foreign banks and affiliates can be limited.
- Burden-sharing costs among governments when public financial support in one country helps debt restructuring can present major unresolved challenges.
- Presence of foreign participants can support restructuring by enhancing financial resources and technical expertise, but strategies that intentionally target foreign creditors should be avoided to prevent negative effects on access to international credit and investment.

### Asset Management Companies (AMCs)
- AMCs have been used to spearhead corporate debt restructuring and support banking sector recovery by transferring out bad assets, causing banks to recognize losses, and allowing banks to focus on core business.
- Operational issues:
  - When AMCs purchase assets from open banks, the price for removing assets is critical and can delay restructurings if banks avoid marking down assets or transferring potential upside.
  - Market valuation of assets on the AMC’s books is critical to set a benchmark for the AMC’s recovery rate on transferred assets.
- Effectiveness conditions:
  - AMCs proved relatively more effective when there are a large number of troubled corporations, relatively homogeneous loans, or where AMCs bring specific restructuring expertise unavailable in banks.
  - Openness to leveraging international technical expertise can bolster AMC effectiveness.
- Institutional forms and governance:
  - AMCs can be government-sponsored, private, or hybrid; choice depends on asset types, problem magnitude, market depth, and debtor characteristics.
  - Experience with government-sponsored AMCs has been mixed due to difficulties balancing public and market objectives, ensuring operational independence, freedom from political interference, and accountability.
  - Effectiveness of government-sponsored AMCs is enhanced by clear sunset clauses.
  - Government sponsorship is relatively stronger when the debt problem is acute relative to private sector capacity or when special legal powers are needed to promote restructuring.
  - Risks of government-run AMCs include political contention, potential distortion of property rights via special legal powers, and loss or difficulty transferring private information about borrowers when assets move to the AMC.

*Source: _spn1002 - 41. Should governments instead substitute for private credit markets and provide new*

### 54. Private AMCs, particularly where compensation structures are aligned to maximizing

### _spn1002 - 54. Private AMCs, particularly where compensation structures are aligned to maximizing

### Private AMCs: effectiveness and risks
- Private AMCs, particularly where compensation structures are aligned to maximizing value in the recovered assets, tend to execute their functions more efficiently.
- Where banks establish their own private AMCs, reliance on these vehicles should be assessed with caution by regulators given the risk that they be used by banks to cover up problems on their balance sheets.
- Funding for private AMC operations can be constrained during, or following crises.

### Hybrid public‑private AMCs: a complementary model
- Hybrid public-private AMCs can leverage both public and private resources and expertise.
- Examples cited: the Industrial Revitalization Corporation of Japan and the International Finance Corporation’s Distressed Assets Recovery program, which raised funding and expertise for asset recovery efforts from both public and private sources.

### Use of AMCs in the current crisis
- Thus far in the current crisis, reliance on AMCs has been limited.
- Some countries have established broader asset management programs, including programs directed to removing distressed assets out of the balance sheets of banks, while other programs have entailed guaranteeing high quality assets to support bank liquidity.
- Country examples (as described in the text):
  - Ireland: National Asset Management Agency, a government-sponsored AMC primarily dedicated to property development loans.
  - Germany: special purpose vehicles to take on illiquid structured assets and “bad bank” public entities to deal with risky assets and non-essential business operations.
  - Iceland: enacted legislation to enable establishment of a government-sponsored AMC to support restructuring of nationally significant firms.
  - United States: public Private Investment Program (example of a program removing distressed assets).
  - Australia, Canada, and Japan: announced asset management programs (examples of programs); UK Asset Protection Scheme noted as a guarantee scheme targeting losses on risky assets.

### Key principles for corporate debt restructuring strategies
- Sequencing
  - The sequencing and relative prioritization of policy measures relevant to a debt restructuring strategy will need to evolve over the course of a systemic crisis and its aftermath.
  - A comprehensive debt restructuring strategy should be envisioned at an earlier stage, but concerted implementation cannot be realistically sustained during the height of a crisis.
  - Authorities need to begin diagnosis of the debt problem and to anticipate legal bottlenecks early, since changes to insolvency laws and institutional structures take time.
  - Early and credible government commitment can reinforce positive expectations of market participants, but expectations must be managed because wide scale corporate debt restructurings may take many—often difficult—years.

- Crisis containment phase
  - Rehabilitation of the financial sector is a first order priority: banking system dislocation must be contained and banks need sufficient capital to revive lending and to be in a position to restructure debt in the subsequent restructuring phase.
  - Governments would likely need to step in to enforce timely recognition of losses and to recapitalize banks where shareholder recapitalization is not feasible.
  - A path towards macroeconomic stability is critical; debt restructuring requires reasonably predictable asset prices, interest rates, and exchange rates to enable medium term judgments of viability.
  - Insolvency law is needed and reforms should be advanced where possible during the crisis containment phase, but insolvency law is no substitute for macro policy responses.
  - Where feasible, insolvency and related law reform should focus on provisions to support out-of-court restructuring, including:
    - enabling a court in an expedited manner to make an out-of-court agreement accepted by a qualified majority of creditors binding on dissenting creditors;
    - provisions to support new financing by according it with a legal priority in payment.
  - In extreme cases, government financing to facilitate voluntary standstills on payments could be a useful interim measure. Governments could provide limited financial support for working capital as an incentive for temporary standstills agreed between corporate debtors and their respective creditors.

- Restructuring phase
  - Some government intervention moderated to complement case-by-case negotiations tends to be relatively more effective; the intermediate approach should be tailored to country circumstances, including macroeconomic conditions, composition of debt and legal/institutional framework.
  - SMEs may require a different mix of tools, possibly more across-the-board treatment, but caution is urged against throwing financing at non-viable SMEs in the face of reduced consumer demand.
  - The debt restructuring strategy should respect inter-creditor equity and avoid targeting foreign creditors, since overturning pre-determined rights (such as priority ranking of secured creditors) can exacerbate longer term disruptions in financial relations and harm access to international credit and investment.
  - Government-sponsored out-of-court workout guidelines are conducive to maximizing debt restructuring for viable firms; to be optimal they will likely need to operate in a structured framework involving government enhancements, such as regulatory suasion on banks to sign on to the workout principles.
  - AMCs may help to spur corporate debt restructuring, but their establishment and operation present design challenges in governance and pricing of assets; consideration of AMCs is particularly warranted where the financial and technical capacity of banks are insufficient to address corporate debt restructuring reliably.
  - Liquidation of non-viable firms cannot be avoided; non-viable firms should be eased out through speedy liquidation procedures and their assets recycled to more productive use.
  - Risks to public finances from government intervention should be contained: some government financial support for debt restructuring may be inevitable given the scale of financial distress and the unreliability of market-based solutions, but fiscal space limitations mean an intermediate approach should leverage private capacity to burden share between debtors and creditors and conserve limited government resources.

### Annex A: Features of out‑of‑court corporate restructuring processes (selected factual points)
- Initiatives or coordinating bodies and basic approaches in the annex include:
  - Indonesia: Jakarta Initiative Task Force (JITF); forum for negotiations, followed by adoption of time-bound mediation procedures; onset of the crisis Late 1997.
  - Korea: Corporate Restructuring Coordination Committee (CRCC); forum for negotiations; onset Late 1997.
  - Rep. of [Korea? as listed]: Corporate Debt Restructuring Committee (CDRC); forum for negotiations; onset Late 1997.
  - Malaysia: Corporate Debt Restructuring Advisory Committee (CDRAC); forum for facilitation, superseded by contractual approach (debtor-creditor agreements); onset Late 1997.
  - Turkey: Istanbul approach; forum for negotiations, superseded in the fall of 2001 by a legal approach (Law on Corporate Debt Restructuring); onset 1997 (general regional onset noted as 1997).
  - Mexico: Unidad Coordinadora del Acuerdo Bancario Empresarial (UCABE); promotion of a voluntary debt workout program for the largest 40 corporations (only about 10 percent of all bank lending); onset Late 1994.
  - Brazil and Czech Republic entries noted as "None" for coordinating body or basic approach in the annex table.
- Resolution mechanisms and default structures varied across countries: examples include referral to government for possible bankruptcy petition, foreclosure and liquidation through court receivership, referral to asset management company with super-administrative powers, debtor-credit agreements obliging creditors to petition court if less than 50 percent support a proposed workout, and regular bankruptcy procedures.

*Source: IMF Policy text excerpts contained in the provided content unit.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/spn/2010/_spn1002.pdf_